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What’s WhatsApp Worth?

Like many other finance professionals, the recent news of Facebook’s $19 billion acquisition of WhatsApp had me wondering, how can Facebook justify such an exorbitant purchase price? In the valuation world, we often get caught up trying to justify the purchase price with complex math and fancy sounding terms like revenue enhancement, monetization, and synergy.

But as I read the commentary on the acquisition, I found that the application of any traditional valuation method to justify the $19 billion price tag was simply futile. To wit, assume that the number of WhatsApp users (reported to be 450 million) all paid the $1 per year subscription fee, resulting in annual revenues of $450 million (maybe this math is not all that complex after all). This would suggest that the value of WhatsApp is 42 times revenue. When considered in comparison to the current revenue multiples of some of the major players in WhatsApp’s industry: Apple – 2.7; Google – 6.8; LinkedIN – 16.4; Facebook – 23.2; this rather simple analysis illustrates how expensive this acquisition was for Facebook.

Nonetheless, Facebook CEO Mark Zuckerberg is downplaying concerns over monetization (that is, the ability to convert an investment, like WhatsApp, into a return to shareholders): “Our explicit strategy for the next several years to focus on growing and connecting everyone in the world… Once we get to being a service with 1 billion, 2 billion, 3 billion people, there are many clear ways that we can monetize.”

While the monetization mechanisms to which Mr. Zuckerberg refers may be clear to him, they certainly were not clear to me (at least initially). What is clear, however, is that Facebook’s goal is to maximize engagement (i.e. usage of the service), which WhatsApp possesses in spades when it comes to the mobile environment. This strategy (remember that word) is essentially a two-fold bet: 1) the use of mobile devices (primarily smartphones) will grow significantly and 2) messaging will be the primary application used on mobile devices (note that Facebook’s messaging service is not terribly popular). In short, the acquisition brought Facebook something it did not have (messaging), in a market that it feels it must grow (mobile), that offered a fantastic match in what Facebook believes to be a crucial value driver for its business (user engagement).

But still… $19 billion?! In the valuation world, when we face a dilemma like this, we will often write it off to the sometimes unquantifiable “strategic value” (there’s one of those fancy words again). Strategic value is the value that a specific buyer can derive from a particular investment upon which the rest of the market may not be able to capitalize. This concept encompasses many of the factors (some quantifiable, some not) that would explain why Buyer A might pay $1 million for a company and Buyer B might pay $2 million for the same company. These factors may include expense reductions (e.g. staff redundancies), revenue enhancement opportunities (e.g. cross-selling), and increased market share. Because of the buyer-specific nature of these items, the price that these factors generate is highly subjective and a result of the negotiations between a specific buyer and the seller.

In the case of Facebook’s acquisition of WhatsApp, Mr. Zuckerberg likely expects to eventually explode revenue through dominance in the mobile market. By possessing a suite of ubiquitous mobile applications (Facebook, Instagram, and now, WhatsApp), Facebook will be able to command a premium price for the service. Just think, what if Facebook can turn the $1 per year WhatsApp subscription fee into, say, $5 per year? What if it can reach the 3 billion user plateau as Mr. Zuckerberg mentions? Now, the annual revenue of WhatsApp is $15 billion – and that $19 billion purchase price no longer seems so outlandish (an implied 1.42 revenue multiple in an admittedly oversimplified analysis). But won’t WhatsApp lose subscribers if it increases its price five-fold? Perhaps, but two factors help WhatsApp protect its subscriber base: 1) $5 per year is still a very low price ($0.42 per month) and 2) predicated in this analysis is the fact that there are 3 billion subscribers that are loyal users. I would submit that relatively few subscribers would exit over what amounts to a rather nominal price increase, especially if all of their friends and family remain (again, the ubiquitous nature of the service is crucial to its success). Further, this entire discussion ignores any potential revenue enhancement that the Facebook application may realize by gaining access to WhatsApp subscribers and data, which is likely not insignificant.

As you can see, when viewing this acquisition through the prism of strategic value, it is not quite as far-fetched to believe that there is long-term monetization opportunity for Facebook. It is most certainly predicated on speculative and subjective factors such as the ability to capitalize on certain synergies that only Facebook may be able to create. Further, there is plenty of risk with a $19 billion purchase. But as Mr. Zuckerberg says, “I think it’s a pretty good bet.” This quote illustrates that when it comes to justifying purchase price, a big business bet can trump our traditional valuation approaches. So, if you are thinking of selling a small or mid-sized business, the story of Facebook’s acquisition of 55-employee WhatsApp can offer meaningful insight as to how strategic value can differ significantly from fair market value and that finding the right strategic buyer can make a big difference in the ultimate sale price of a company.